Thu 26 July 2012 - Supplementary Report

Well my fears on Lamprell proved correct - the shares are down a thumping 43% at 71p, by far the biggest faller of the day so far. This is one falling knife I'm not tempted to catch again - whenever bank covenants are likely to be breached, it's time to get the hell out of there. Lamprell no longer looks like a good company that has slipped up, but now just looks like a bad company, or at least with useless management who don't seem to be able to control the business. Although last time this happened a few years ago, I bought the shares around 60p and did very well indeed on them. They just seem too accident prone now though.


I remain amazed at the value on offer with Home Retail Group (HOME) shares, the owner of Argos and Homebase. The shares are now right back down to 70p, their 5-year low. I know chartists will tell me that if this crucial support is broken, they will drop another make-up-a-figure %, but to my mind if the price is too cheap for the fundamentals, then if it drops further it becomes more of a bargain.


To recap the figures on HOME, their most recent trading statement dated 19 June 2012 triggered a big spike in the price (since dissipated), because it showed that the precipitous sales declines at Argos have now stopped. Homebase saw an 8% drop in turnover, but explained by the exceptionally poor weather, and by my calcs they recouped about half of the lost gross profit with higher margins.


Total multi-channel (i.e. internet, mobile & phone) sales are now a staggering 51% of Argos sales - so they are winning, not losing the battle for the internet! Indeed, HOME is the UK's 2nd largest internet retailer.


Most importantly, they confirmed full year guidance, the outlook being as follows;


"At this early stage of the financial year we are comfortable with current market expectations for full year benchmark profit.  We will continue to plan cautiously, managing robustly both the cost base and the cash position of the Group while prioritising our investment in the ongoing development of our multi-channel capabilities."


In my view, if a company is comfortable with full year guidance in Q1, that usually means they've got a bit in the back pocket - i.e. it points to probably out-performance.


Full year broker consensus is for 6p EPS this year, or £72m profit before tax.
Bear in mind that the large depreciation charge means that EBITDA is nearer £200m, and the mkt cap of £574m starts to look quite good value.


However, the mkt cap begins to look like a bargain when you examine the Balance Sheet. In particular, HOME had an average net cash balance throughout last year (ended 2 March 2012) of £320m - or 56% of the mkt cap!


Better still, HOME operates its own in-house store card, and the debtor book for this, net of bad debt provisions, is an astonishing £461m, or 80% of the mkt cap! There is nil associated debt, so this is a real, liquid asset.


Hence HOME's own net cash, plus its debtor book, are equal to 136% of the mkt cap, and I emphasise, there is no corresponding debt - these are real, liquid assets, owned outright.


Surely it won't be long before a trade or Private Equity predator spots the opportunity to buy HOME using its own Balance Sheet surplus assets?!
Most brokers are negative on HOME, but they would be - it's a lagging indicator. Although Numis did turn positive last week.


So in my opinion HOME is simply valued wrong by the market, and fair value is by my estimates, roughly 120-150p - which would probably be the price of a successful bid. Imagine also say a US retailer buying this >£5bn t/o group, and ramming through some margin initiatives on the buying side. Every 1% extra gross margin is over £50m additional profit. Plus there would be loads of costs that could be stripped out.


Furthermore, fears about leases are exaggerated. HOME has few loss-making shops, and they are negotiating an average rent reduction of 16% on leases that come up for renewal. So over time the rent roll will gradually reduce. It's ridiculous to view leases as a liability if the shop is profitable. Future rent is just a future operating cost, in the same way as wages, rates, utilities, etc. So if you make the future rent into a huge creditor, then you should make future turnover into a huge debtor! It's bonkers.


As a former retail FD, I can tell you emphatically that the only leases which are a problem are those for loss-making shops. And shops which have been closed, and assigned to another retailer who then goes bust. In any case, over time inflation resolves a lot of problems with over-rented shops.


Anyway, enough about HOME. The bottom line is that, in my view, these shares are the wrong price, and should be significantly higher, but at the moment market sentiment disagrees with me. Remember that HOME also has one of the largest short interests in the market. So an even half-decent Q2 trading statement on 13 Sept 2012 could once again send the shorts running for cover. I do hope so!


Yes the Eurozone is a dark cloud over everything, but life goes on. The most important thing is that most Argos items are smallish ticket, and that consumer incomes are now back in balance, with inflation having fallen to roughly the same as average income growth (c. 2%). So the squeeze on disposable real incomes has come to an end. That should be good for Argos, as they sell things which are largely discretionary, hence probably why the last few years have been so weak (but still profitable).




OK, enough about HOME. Let's move on to some more results.


Industrial engineer (something about thermal processing services, whatever that means - why can't company descriptions use plain English any more?!) Bodycote (BOY) has put out pretty solid Interims today.


Headline profit before tax is up 12% to £45.7m for the 6 months to 30 June 2012. Basic headline EPS is up 13% to 18.3p. That seems to tie in with 36p consensus forecasts for this year (assuming no H1 vs H2 seasonality), so at 325p these shares look good value to me - that's a PER of only 9, and a forecast divi yield of 3.7%. Loads of debt? Actually no, only £16.7m net debt (halved from a year ago). I like the look of Bodycote - looks a bargain, worthy of further research in my view.


The market seemed to like Man Group (EMG) results yesterday, and the shares have risen nicely to just under 80p. I bought some yesterday, and am sitting tight, as it's not often you find a 20% dividend yield! Although the divi yield should be seen as a repayment of surplus capital to shareholders, as well as paying out all earnings.


Pretty grim results for y/e 30 April 2012 from Colefax (CFX), the luxury furnishing & fabrics group. EPS has halved from 33p to 15.8p, although net cash has risen to £8.5m - fairly material vs a £33m mkt cap. Results are however slightly ahead of brokers forecast, so poor performance must have been pre-warned. Doesn't look cheap though, on a PER of 15. Outlook statement is cautious, but points to small improvement in the US. The rich have got plenty of money, and are spending on luxuries, so if Colefax are struggling then to me that says its down to their products not being up to scratch. Hence I won't be buying any shares here.


Lots of other results today, but mainly large caps, which I don't usually cover here unless it's a quiet day for small caps.